Blackman on Taxes

Why Do the Rich Buy So Much Life Insurance?

Before answering the above question, be assured that the information in this article works perfectly if you are worth $3 million or $333 million.

Now the answer: The tax law creates a special tax-free environment just for life insurance. This law provides everyone with an easy to create tax-free wealth. Your opinion of life insurance as a tax-advantaged investment will change when you learn the difference between the math (which follows) in a taxable environment as opposed to a tax-free environment.

Is $1 Million a Lot of Money?

In a taxable environment, more than you think. Can you guess how many dollars you must earn to leave your family $1 million after taxes? Try this:

You earn 2.78 million, minus the income tax (state/federal) on $2.78 million at 40 percent ($1.11 million) = $1.67 million. Then subtract the estate tax on $1.67 million at 40 percent ($0.67 million) and the balance to the family is $1.0 million. The tax collector gets $1.78 million, your family $1 million.

However, properly structured insurance will beat this tax monster at every turn.

The Law that Facilitates Magic Tax Tricks

1) Insurance premiums are deductible for estate-tax purposes. For example, in a taxable environment the IRS pays 40 percent of the premium. Suppose you pay $500,000 in premiums (from the day you bought a $2 million policy to the day you die). The $500,000 is gone, and can’t be taxed by the estate-tax monster. Result: If you had not bought the policy, your family would have received only an additional $300,000 ($500,000 less $200,000 of estate tax).

2) During your life: Your cash-surrender value (CSV) increases a bit each year as you pay the annual premiums. Sometimes the CSV exceeds the total premiums paid. All increases als are tax-free. You can borrow the CSV, called a policy loan. The receipt of such a loan is tax-free. If loans are not repaid during your life, they will be repaid at your death out of policy proceeds—also tax-free.

3) At death: The excess of the death benefit (say $1 million) your heirs receive over the amount of premiums paid (say $250,000) is tax-free. The excess of $750,000 ($1 million minus $250,000) is a clear profit, but every dime is income tax-free.

The $1 million death benefit, if properly structured, is tax-free —no estate tax. But be warned: if not correctly structured, the estate-tax monster will reap $400,000 in tax for every $1 million of death benefit.

4) And even after death: You are married. Say you die with a $10 million policy on your life, owned by an irrevocable life insurance trust (ILIT) and with your wife as beneficiary. No estate tax at your death—thank you tax law for the 100-percent tax-free marital deduction. Now consider what happens when your wife dies many years later. The amount in the ILIT has grown to $12 million, and every penny of that will pass to her heirs tax-free.

Now let’s use the tax law spelled out above to leverage your wealth. There are actually dozens of insurance strategies, but the following strategies (from actual cases taken from my private client files) are used over and over again in real life.

1) Funds in a qualified plan (such as a 401(k) or IRA)—Sadly, funds in a qualified plan are double-taxed (income and estate tax). To avoid this double tax, two strategies rise to the top:

• Subtrust—Joe has $1 million in his 401(k). It is estimated that if Joe and his wife Mary each live to 5 yr. beyond life expectancy, the after-tax amount to their heirs would only be $1.15 million. Using a subtrust, Joe and Mary’s heirs (via a second-to-die life-insurance policy) will receive $3.53 million, tax-free.

• Retirement-plan rescue (RPR)—Sam, married to Sue, has $900,000 in an IRA. Using a RPR to purchase a $10 million second-to-die policy avoids every penny of the estate tax—$900,000 (only $324,000 after the double tax) turns into $10 million, tax-free. If you have a large amount ($400,000 or more) in a qualified plan, you owe it to your family to look at a RPR.

2) Existing life-insurance policies with a CSV—Frank had a second-to-die policy insuring him and his wife Faye and owned by an ILIT. Acquired in 1996, the policy has an $850,000 CSV and a death benefit of $1.53 million. We did a tax-free exchange raising the death benefit to $3.48 million with no out-of-pocket cost to Frank, Faye or the ILIT. If you have a CSV policy 8 yr. or older, consider this strategy.

3) The annuity strategy—Step 1: Matt (married to May) bought an immediate joint life annuity for $1 million that will pay $43,843/yr. for as long as either Matt or May is alive.

Step 2: The after-tax amount of the annuity will pay the premium on a $5.68 million second-to-die life-insurance policy. Everything—the annuity and death benefit—is guaranteed. Remember, the after-estate-tax value of $1 million is only $600,000. So, Matt turned $600,000 into $5.68 million.

Readers are eligible to receive a free review to determine how the above strategies might work. To get started, contact Irv at 847/674-5295 or irv@irvblackman.com. MF

Reader Comments

There is a few ways you have access to the information within film production. At
the conclusion in this board, you have the Sun-shroom.
Applebee's is becoming compensated for great deed that has a volcanic hotness score for the search engines like yahoo Tendencies with an huge increase of search around the internet traffic.

Someone essentially assist to make significantly articles
I'd state. That is the very first time I frequented
your web page and so far? I surprised with the analysis you made to
make this actual publish amazing. Wonderful activity!